Personal data in this document have been redacted according to the General Data Protection Regulation 2016/679 and the European

Commission Internal Data Protection Regulation 2018/1725

Acknowledgements

Project Team Manager Nicolas Boudeville (PwC) SIA Team Leader Sarah Richardson (Maeander Ltd) PwC Project Coordinator (Paris) Jochen Krimphoff (PwC) ESA Team Bénédicte Hermelin (GRET)

Benoît Faucheux (GRET) Anne Chetaille (GRET) Eckhard Siggel (Concordia University)

This report is one of a series of “Sustainability Impact Assessment” (SIA) reports coordinated by PricewaterhouseCoopers on behalf of the European Commission, Directorate General for Trade, under 5-year framework contract1.

The third phase of this project covers three sector studies in three African-Caribbean-Pacific (ACP) regions: Horticulture in Eastern and Southern Africa, (ESA); Rules of Origin in the Southern African Development Community Group (SADC Group) and Financial Services in Central Africa.

The authors would like to extend their thanks to all those who contributed to this report.

For further information please see http://www.sia-acp.org or contact: PricewaterhouseCoopers Sustainable Business Solutions 63, rue de Villiers F-92208 Neuilly-sur-Seine France +33 1 56 57 60 16 (Tel) +33 1 56 57 36 16 (Fax) sia-trade@fr.pwcglobal.com

1 Framework contract TRADE-02-F03-02

2

Executive Summary

This is the Final Report of the EU-ACP Sustainability Impact Assessment (SIA)

(Phase III) with a focus on the Eastern and Southern Africa (ESA) configuration of ACP

countries. The ESA countries are: Burundi, Comoros, Djibouti, Eritrea Ethiopia, Kenya,

Madagascar, Malawi, Mauritius, Rwanda, Seychelles, Sudan, Uganda, Zambia and

Zimbabwe. The SIA focuses specifically on the horticulture sector (roses, green beans and

green peas).

The report introduces the horticulture sector in ESA countries, presents the results of

a consultation process, introduces relevant sustainability issues and trade measures and

describes the methodology. It proceeds to analyse a baseline and EPA scenario with respect

to both developing countries and least developed countries (LDCs) in the region. Three

countries were selected for case studies: Kenya, a non-LDC with mature horticulture sector,

Zambia, a land-locked LDC with a relatively strong horticulture sector, and Ethiopia, and a

LDC with rapidly emerging horticulture sector. The report presents policy recommendations

for trade negotiators and domestic decision-makers with the goal of ensuring that the EPA

serves to promote sustainability.

The methodology includes a combination of quantitative and qualitative techniques.

Qualitative analysis of potential environmental and social impacts is based on research and

data collected, inter alia, through two field missions. A quantitative analysis of the impacts of

the baseline scenario (a reversion to GSP duties for non-LDCs) was also undertaken,

examining indicators of competitiveness and comparative advantage. The EPA scenario

considers the impact of retaining preferential access to the EU combined with duty free

access to ESA for inputs used in horticulture production, and agreement on SPS, TBT, trade

facilitation, investment and horticulture-related services. The major findings are summarized

in the two tables that follow.

3

Policy recommendations included in the SIA address regional integration, trade

measures and sustainability issues. For regional integration, coherence with existing

integration should be explored and the development of regional markets for vegetables and

fruit would be encouraged if adequate infrastructure is developed.

The main trade measure addressed is duty-free market access for non-LDCs. If

negotiations are not likely to be completed by the 1 January 2008 deadline, then market

access for non-LDCs should be secured with a transitional system. Otherwise, companies are

put in an uncertain situation, with a negative impact on investment. A SPS protocol is also an

important measure. Special treatment should be included for roses (along the lines of the

provisions in the EU-Israel Free Trade Agreement). European investment could develop with

an adequate protocol. Investment could be linked to the implementation of one existing code

of conduct. Finally, cooperation in services should facilitate trade and environmental

services, such as water management.

To address sustainability issues, research and implementation of new technologies are

required. Integrated Pest Management and renewable energies should be sustained and

further disseminated. Training programs should be implemented. Natural resources co-

management should be developed. Private standards and labels should be more coordinated.

A communication campaign in the EU would help consumers to chose a “sustainable”

product and stimulate good practices in the ESA region. Finally, a credit program should be

implemented to help smallholders enter the sector.

5

List of Acronyms ACP Africa – Caribbean – Pacific CBA Collective bargaining agreement CET Common external tariff COMESA Common Market for Eastern and Southern Africa CSR Corporate Social Responsibility EAC East African Community EBA Everything But Arms ECZ Environment Council of Zambia EEPA Ethiopian Environment Protection Authority EHPEA Ethiopian Horticultural Produce Exporters Association EPA Economic Partnership Agreement ESA Eastern and Southern Africa ETI Ethical Trading Initiative EU European Union EurepGAP Euro-Retailer Produce Association Good Agricultural Practice FDI Foreign Direct Investment FLP Flower Label Program FPEAK Fresh Produce Exporters Association of Kenya GAP Good Agricultural Practice ICC International Code of Conduct (for cut flowers) ILO International Labour Organization KEPHIS Kenya Plant Inspectorate Inspectorate Service KFC Kenya Flower Council LDC Least-developed country MEA Multilateral environmental agreement MPS Milieu Programma Sierteelt NEMA National Environment Management Authority (of Kenya) NGO Non-governmental organisation SADC Southern African Development Community SIA Sustainability Impact Assessment SPS Sanitary and phytosanitary UK United Kingdom WTO World Trade Organization ZEGA Zambian Export Growers Association

6

TABLE OF CONTENTS 1. INTRODUCTION .................................................................................................................... 1

1.1 Coverage of the SIA/General importance of sector................................................ 1 1.2 Regional integration................................................................................................... 3

2. CONSULTATION .................................................................................................................... 4 2.1. Field mission and interviews..................................................................................... 4 2.2 Electronic discussion.................................................................................................. 5 2.3 Regional meeting ........................................................................................................ 5

3. SUSTAINABILITY ISSUES....................................................................................................... 7 4. TRADE FLOWS .................................................................................................................... 10

4.1. Intra-Regional Trade............................................................................................... 10 4.2 Trade between the EU and the ESA region ......................................................... 11

4.2.1 Exports from the ESA region to the EU ......................................................... 11 4.2.2 Imports into the ESA Region related to horticulture ..................................... 15 4.2.3 Trade in Services ............................................................................................. 16

5. RELEVANT TRADE MEASURES .......................................................................................... 17 5.1 Market Access: Tariffs ............................................................................................ 17

5.1.1 EU tariffs.......................................................................................................... 17 5.1.2 ESA tariffs ....................................................................................................... 17

5.2 SPS measures ............................................................................................................ 18 5.3 Foreign Direct Investment ...................................................................................... 20 5.4 Trade facilitation...................................................................................................... 20 5.5 Related Services: Transport/Financial Services .................................................. 21 5.6 Codes of Conduct ..................................................................................................... 21

6. SUMMARY OF THE METHODOLOGY.................................................................................. 24 6.1 Scenarios.................................................................................................................... 24 6.2 Quantitative analysis ............................................................................................... 26

6.2.1 Data sources, coverage and assumptions ....................................................... 27 6.2.2 Exchange rates and currency misalignment ................................................... 27 6.2.3 Interest rates and the shadow price of capital................................................. 28 6.2.4 Wages and the shadow price of labour........................................................... 29 6.2.5 Other price and cost distortions ...................................................................... 29

7. CASE STUDY ONE: NON-LDCS (KENYA) ......................................................................... 32 7.1 Introduction .............................................................................................................. 32 7.2 Summary of the Baseline Situation ....................................................................... 33

7.2.1 Economic Impacts ........................................................................................... 34 7.2.2 Social Impacts.................................................................................................. 38 7.2.3 Environmental Impacts ................................................................................... 39

7.3 EPA Analysis ............................................................................................................ 42

7

7.3.1 Economic Impacts ........................................................................................... 42 7.3.2 Social Impacts.................................................................................................. 43 7.3.3 Environmental Impacts ................................................................................... 44

7.4 Conclusions ............................................................................................................... 44 8. CASE STUDY TWO: LDCS (ZAMBIA AND ETHIOPIA) ...................................................... 46

8.1 Introduction .............................................................................................................. 46 8.2 Summary of the Baseline Situation ....................................................................... 49

8.2.1 Economic Impacts ........................................................................................... 50 8.2.2 Social Impacts................................................................................................. 51 8.2.3 Environmental Impacts ................................................................................... 52

8.3 EPA Analysis ............................................................................................................ 53 8.3.1 Economic Impacts ........................................................................................... 53 8.3.2 Social Impacts.................................................................................................. 54 8.3.3 Environmental Impacts ................................................................................... 55

8.4 Conclusions ............................................................................................................... 55 9. POLICY RECOMMENDATIONS............................................................................................ 56

9.1 Trade measures ........................................................................................................ 56 9.2 Regional integration................................................................................................. 57 9.3 Sustainability Issues................................................................................................. 58

10. REFERENCES ....................................................................................................................... 61 ANNEX 1: QUESTIONNAIRE ............................................................................................................ 63 ANNEX 2: LIST OF INTERVIEWS ..................................................................................................... 65 ANNEX 3: INDICATORS OF COMPETITIVENESS AND COMPARATIVE ADVANTAGE...................... 67 ANNEX 4: REAL EXCHANGE RATE COMPUTATIONS FOR KENYA AND ZAMBIA.......................... 70 ANNEX 5: INTERNATIONAL CODE OF CONDUCT FOR THE PRODUCTION OF CUT-FLOWERS... 71 ANNEX 6: CODE OF CONDUCT IN THE ESA REGION.................................................................... 74

8

1. Introduction The countries in the Eastern and Southern Africa (ESA) configuration for the EPA

negotiations with the EU are: Burundi, Comoros, Djibouti, Eritrea, Ethiopia, Kenya,

Madagascar, Malawi, Mauritius, Rwanda, Seychelles, Sudan, Uganda, Zambia and

Zimbabwe.2 They are all part of the Common Market for Eastern and Southern Africa

(COMESA), which promotes regional economic integration through trade and investment

and aims to create a Customs Union by 2008.

The EPA negotiations are ongoing. In October 2005, a negotiating session focused

on four sets of issues: development, fisheries, agriculture and market access. Meetings on

fisheries and development were held in January 2006 and, in March 2006, a

technical meeting was held in Nairobi on sanitary and phytosanitary (SPS) measures.

As well as being trade agreements, the EPAs are intended to promote sustainable

development in ACP countries. This Sustainability Impact Assessment (SIA) seeks to

contribute to that goal. It focuses on the horticulture sector, which is vital for several

countries in the ESA configuration and an important contributor to economic performance

and employment.

The horticulture sector has relied heavily on market access preferences under the

Lomé conventions and the Cotonou Agreement and is strongly influenced by other trade

measures, such as SPS measures. It is a sector that could be impacted by the final outcome

of the EPA negotiations. This SIA assesses the likely economic, social and environmental

impacts of baseline and EPA scenarios and makes recommendations on ways in which an

EPA can best contribute to sustainability through the continued development of the sector.

1.1 Coverage of the SIA/General importance of sector This SIA focuses on horticulture with an emphasis on the export of fresh vegetables

and cut-flowers from ESA countries to the EU. Because of their economic and social

2 Non-Least Developed Countries in the ESA region are Kenya, Mauritius, Seychelles, Zimbabwe.

1

importance, the focus is on the exports of roses, green beans and peas. They are the main

vegetable and flower exports. At present, Kenya is the leading exporter to the EU from the

region, although Ethiopia, Uganda, Zambia and Zimbabwe also export significant quantities

of vegetables and flowers to the EU. The potential exists for other countries, such as Rwanda,

to develop production and export capacity. The conclusions of this SIA may be helpful for

countries already engaged in trade as well as those seeking to develop horticulture exports.

In addition to tariff preferences, ESA countries have several advantages vis-à-vis their

competitors in the EU, including cost savings on energy and labour. Climate is an important

advantage compared with the Netherlands. ESA exports to the EU are less important in

summer (the European production period). (Figure 1) During winter in the EU, Dutch

greenhouses require heating, but roses grown in Africa do not need to be heated. The recent

rise in oil price makes this an important variable in determining competitiveness. Labour in

the ESA countries costs between US$0.8 and US$1.6 per day while it is tens of euros in the

EU. ESA countries maintain their advantage even though Dutch production is more

mechanised and less labour intensive (4 to 5 people per hectare versus 20 to 25 in Africa).

To illustrate the risks and opportunities associated with an EPA for the horticulture

sector in the ESA region, the SIA employs two case studies; one considers potential impacts

on a developing country while the second considers potential impacts on two LDCs. The

countries selected for the case studies are Kenya, Zambia, and Ethiopia. These countries are

among the most relevant for the horticulture sector in the region and together, they illustrate

the dynamic of potential impacts of an EPA between non-LDCs in the region and LDCs.

Kenya is a non-LDC with a mature horticulture sector. Zambia and Ethiopia are both LDCs.

Zambia is land-locked with a relatively strong horticulture sector and Ethiopia has a rapidly

emerging horticulture sector, fuelled largely by foreign direct investment (FDI). For both

LDCs and non-LDCs, trade with the EU is vitally important.

2

Figure 1: EU imports of roses from the ESA region by month (tons, 2003)

0

1000

2000

3000

4000

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6000

7000

Janu

ary

Febru

aryMa

rch April

May

June Ju

ly

Augu

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Septe

mber

Octob

er

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mber

Dece

mber

Source: COMEXT database.

1.2 Regional integration The countries involved in the ESA configuration for the EPA negotiations are all

members of COMESA. Within COMESA, a free trade area already exists among Burundi, Djibouti, Egypt, Kenya, Madagascar, Malawi, Mauritius, Rwanda Sudan, Zambia and Zimbabwe. In May 2006, Libya and the Comoros joined COMESA. These countries have eliminated tariffs on goods originating within COMESA and are working toward the eventual elimination of quantitative restrictions and other non-tariff barriers, and the creation of a Customs Union by 2008. A common external tariff (CET) of zero percent has been established for both raw materials and capital goods. Negotiations are still underway with respect to CETs for both intermediate and final goods.3

However, there is some overlap between the regional integration initiatives of several countries in the ESA. For example, Kenya, Uganda and Tanzania (which is negotiating an EPA in the SADC Group) are members of the East African Community (EAC).4 The EAC has implemented a CET. The EPA configuration of ESA States may act as a catalyst for bringing about further progress on the issue of overlapping memberships and inconsistent integration agendas.

3 This was the subject of COMESA’s Eighteenth Meeting in Lusaka, Zambia in December 2004, where the Council of Minis-ters decided that Member States should work towards harmonising their external tariffs as a transition strategy towards realis-ing the COMESA CET. 4 Malawi, Madagascar, Mauritius, Zambia and Zimbabwe are part of SADC, but are negotiating an EPA in the ESA group.

3

2. Consultation

2.1. Field mission and interviews The consultation process began in November 2005 with the participation of a

member of the consortium at a regional meeting organised by Union Fleurs (European flower importers’ organisation) and the Kenya Flower Council. This meeting was followed by farm visits which helped the team to identify the main sustainability issues and develop contacts. At the meeting, exporters from non-LDC countries emphasized the importance of maintaining duty-free access to the EU for flowers and vegetables under an EPA. The meeting allowed stakeholders from the ESA to propose further issues to be addressed in the sector in order to improve competitiveness, including capacity building related to SPS measures, transportation and telecommunications infrastructure, technology, the development of financing and financial services, and training. Finally, the need to design and implement government policies (customs cooperation, transportation policy, training stakeholders, sound environmental and social legislation, and investment policy to encourage Corporate Social Responsibility [CSR]) was highlighted.

This first mission was followed by a 10-day mission in March 2006, which visited Kenya, Ethiopia and Zambia. The mission consulted with relevant stakeholders to gain an improved understanding of the sustainability challenges and the perceived impacts of an EPA, and collected data to assess the impact of the SIA scenarios on the horticulture sectors in the three countries. Stakeholders interviewed included growers, exporters, government representatives, NGOs and research centres.

The mission spent five days in Kenya, two days in Ethiopia and three days in Zambia. Thirty people were interviewed including: 17 growers (exporters and grower associations), nine government representatives (ESA and EU), and four members of NGOs or research centres (Annex 1). Five farms were visited: two small farms (Kenya Flowers Ltd [5 ha of roses] and Mangana Flowers [8 ha of roses]) and one large company (Sian Roses [45 ha of roses on 4 sites]) in Kenya. One small farm, Meilland Ltd (5 ha of roses) in Ethiopia, and two small farms – Divesha Farm (8 ha of vegetables) and the NRDC/ZEGA training trust (a training farm growing roses on 0.5 ha and vegetables on 20 ha)—in Zambia.

In addition to the interviews, a questionnaire (Annex 2) was sent to representatives of selected companies to gather data for the quantitative analysis being employed in this SIA.

4

The aim was to collect data from two large and two small companies from each of the three countries visited. Data has been received from two large and two small Kenyan companies, and from two small and one large Zambian farms. The Ethiopian growers contacted did not respond to the questionnaire.

2.2 Electronic discussion In June 2006, a document summarising the main conclusions of the mid-term report

was sent to 135 persons (growers, non governmental organisations, trade officials). The

following questions were asked:

Does this initial SIA cover the most important trade-related issues that might be

negotiated as part of an EPA? Does it sufficiently capture the challenges and

opportunities related to, inter alia, market access (tariffs), FDI, SPS measures, trade

facilitation, and other related services?

Does this initial SIA capture the most important sustainability impacts associated

with the horticulture sector?

What types of trade-related measures could be included in an EPA to enhance the

positive impacts of an EPA on sustainability for LDCs? For non-LDCs?

What types of policies could be put in place at the domestic and/or ESA levels to

ensure that further development in the sector promotes economic, environmental and

social sustainability?

What are the capacity building and development needs in the short, medium and long

terms for LDCs and non-LDCs?

Responses were used to strengthen the results of the SIA and to develop policy

recommendations.

2.3 Regional meeting The team had planned to organise a regional meeting with various stakeholders to

discuss the main findings and policy recommendations. The Kenya Flower Council agreed to

manage it and to seek funds from the ACP-EPA Program Management Unit in Brussels,

which expressed interest in funding the meeting, but could not act within the time constraints.

5

The regional meeting was replaced by a mission to Nairobi to meet various Kenyan

stakeholders and collect their perspectives on the main conclusions and policy

recommendations. Growers, NGOs working on social and environmental issues or on EPA

negotiations and trade officials were interviewed. Four main issues were explored during this

mission. First, the impacts of a loss of profitability for Kenyan horticulture; second, to

explore the hypothesis being developed by the consultants; third, to obtain proposals to

strengthen and develop codes of conduct; and fourth, to discuss the impacts of an EPA on the

current regional integration process and trade flows. Finally, a meeting with officials from the

Banque Rwandaise de Développement raised issues related to the potential impacts of an

EPA on Rwandan horticulture and the potential for development.

6

Theme Variable(s) Relevance Source schools.

Gender Equity and employment opportunities

Almost half of the workers in the horticulture industry are women. Most of the casual workers are women. In the flower sector, 60% of workers are women. Sexual harassment is present in the sector and national industries are trying to ameliorate the situation with private codes. (Dolan et al. 2002 ; Njobvu 2004)

National statistics bodies, sector associations, literature

Health Levels of HIV/AIDS ; worker health and safety

One of the main health and safety problems is created by the use of agrochemical in the horticulture sector. Pesticides cause skin, throat and respiratory health problems (Dolan et al., 2002) Good practices are not implemented spontaneously as they represent constraints both for companies and for workers. Private codes focus on this issue.

National statistics bodies, sector associations, literature

9

4. Trade Flows Over the past two decades, horticulture exports to the EU have become a major

source of revenue in the ESA region. Kenyan horticultural exports are now the primary source of foreign currency (almost 20% of total exports), and are more important than both tourism (19%) and tea (18%). (Kenya Export Promotion Council) In Zambia, exports of fresh vegetables and cut flowers account for almost 40% of total agricultural exports. In Ethiopia, the sector is new but is increasing very rapidly. A small but growing regional market for vegetables also exists.

Horticulture products are mainly exported to the EU market, while its inputs and equipment are imported from the EU and Israel. Horticulture trade grew rapidly in the ESA region because of duty-free market access under the Lomé conventions and then the Cotonou Agreement. Tariffs are the most important trade measures. But SPS measures are also significant given the exacting nature of the EU market. The production of high quality products requires a high level of investment often provided by FDI. Growth in the sector relies on the affordability and quality of different services (often imported) including, inter-alia, air freight, credit, and legal and marketing consulting.

4.1. Intra-Regional Trade There is an emerging market among ESA countries and their neighbours. But trade

flows of horticultural products in the ESA region are difficult to identify. COMESA publishes some statistics but not at the ESA level. Nevertheless, some trends can be identified.

In 2002, Kenya was the first intra-COMESA exporter with US$ 331 million (35% of the export share), while Uganda and Egypt each imported goods valued at over US$ 200 million and Kenya, Zambia, Sudan and Zimbabwe imported goods valued at between US$ 100 and US$ 150 million. (COMESA, 2002)

At present, there is no viable market for cut-flowers in the ESA region because there is no regional consumption of cut flowers. The situation is different for vegetables. Intra-COMESA vegetables trade represented almost $US12 millions in 2001 (HS chapter 07 edible vegetables and certain roots and tubers). (COMESA, 2002) Vegetable trade flows within COMESA are growing. In 1998, chapter 07 ranked 37th and in 2001 it is ranked 19th. In the same period, total intra-COMESA trade increased from US$1,118 to US$1,273

10

million. There is an emerging market in the ESA region (and other African regions) for fresh vegetables, including green beans and peas. Grade two vegetables, which are not of high enough quality to be exported to the EU are being sold in national markets.6 The development of a regional market for these products is promising; green beans and peas require specific climatic conditions for their cultivation that are not available in all areas and excess production can be traded within the region.7 However, they remain luxury products and local consumption of green beans and peas in the ESA region is still very low.8 Nevertheless the specialization of the region in horticulture exports to the EU presents an opportunity to develop a regional trade in these products.

4.2 Trade between the EU and the ESA region

4.2.1 Exports from the ESA region to the EU Horticulture exports from ESA to EU are growing rapidly. The main horticulture

exports are green beans, peas and roses. As fresh products they are exported by air and need

efficient cold chains from farm to consumer. Between 1988 and 2004, EU horticulture

imports (all origins) increased by 86% for beans, 30% for peas and 16% for roses (tons).

Table 2: Main horticultural products imported by EU15 in 2004 from ESA countries (‘000 €)

Beans Peas Total Fresh vegetables Roses Total cut flowers

Burundi 315 315 Eritrea 47 68

Ethiopia 774 774 5 143 5 207 Kenya 73 613 26 788 134 989 160 353 235 009

Madagascar 152 213 847 1 Malawi 24 179 256

Mauritius 108 1 398 Rwanda 164 164 Uganda 22 3 4 268 20 700 20 771 Zambia 3 502 5 666 13 662 12 882 13 862

Zimbabwe 3 400 4 527 11 802 25 670 40 678 Total ESA 81 464 37 197 166 521 225 406 317 729

Source : EU COMEXT database (2005)

6 For example, in 2004 ESA countries exported 225 tons of green beans and 237 tons of green peas to South Africa (COMTRADE database). 7 For example, green beans require a temperature between of 17.5°C and 25°C and are often cultivated at an altitude of about 1,000 m. (CIRAD and GRET 2002) 8 Interviews with several stakeholders.

11

million) and Norway (€2 million). The United States, Australia and South Africa also import cut flowers from the ESA countries, but each accounts for less than €1 million per year.12 Figure 4: ESA Rose exports to the EU (in tons)

0

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Rest of ESAEthiopiaUgandaZimbabweZambiaKenya

Vegetables. In the EU 15 fruit and vegetables account for up to 15% of food expenses. Vegetable consumption has increased in value but not in volume. Products are more processed and easier to use (frozen products, ready to cook or ready to eat). (AREFLH, 2004) And, the share of imported vegetables in EU consumption is growing.

Between 1990 and 2000 EU annual imports (in volume) of green beans and green peas from third countries increased by 8.6% and 11.1%, respectively. Kenya, Guatemala and Zimbabwe are the main exporters to the EU of green peas. Morocco, Kenya and Egypt are the main suppliers of green beans. Since 1988, ESA market share of peas to the EU has increased but it has decreased for green beans. (Table 4) ESA exports of peas and beans are growing, as EU imports from all origins are increasing. Table 4: Share of EU main suppliers of peas and beans (%) Beans Morocco Egypt Senegal Kenya Zambia Zimbabwe Ethiopia 1988 6 35 6 28 0 0 4 1995 10 27 5 30 0 2 6 2004 52 17 3 18 1 1 2 Peas Guatemala Morocco Egypt Peru Kenya Zambia Zimbabwe 1988 28 24 2 0 1 7 18 1995 23 7 1 0 23 6 31 2004 17 7 5 4 37 8 13 Source : COMEXT database

12 Data from COMTRADE database (International Trade Center). The COMTRADE database does not distin-

14

Kenya, Zambia and Zimbabwe export both green peas and green beans to the EU,

while Ethiopia exports only green beans. (Figure 5)

Figure 5: ESA exports to the EU (tons)

of green beans of green peas

0

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KenyaZambiaZimbabweEthiopia

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Source : COMEXT database

Supermarkets are a critical distribution point for vegetables from the ESA region. In

the UK supermarkets control 80% of the distribution of green beans and green peas. In both

the UK and the Netherlands quality is the most important factor in grocery store selection. In

France and Spain, price is the most important factor.

The use of private labels is increasingly important when selling directly to

supermarket chains. In 2001, private labels such as EurepGAP (indicating high quality

products) represented 43% of retail grocery sales in UK, 27% in Belgium, 23% in Germany,

20% in France, 19% in Netherlands, 16% in Spain, and 11% in Italy. Prices for bulk

vegetables have decreased in recent years and it is more profitable to export packaged

products. (Jaffee 2003) Increasing amounts of green beans (and other vegetables) are being

transformed and packaged in Africa prior to export. (Dolan 2001)

4.2.2 Imports into the ESA Region related to horticulture

The horticulture sector in the ESA region imports most of its inputs and equipment

from the EU, Israel, and Asia (produced under a European brand). (Table 5) Raw materials or

semi-manufactured goods are also imported from some African countries (notably South

Africa and Egypt). In Kenya, major inputs include fertilisers, pesticides, fungicides, herbi-

cides, nematicides, growth hormones, plant growth regulators, rodenticides, green houses,

guish roses from other cut flowers.

15

shade netting, reinforced polyvinyl chloride (PVC), high density polyethylene (HDPE)

sheeting and irrigation equipment.

Table 5: Origin of the main products and equipments used by horticulture sector

Product Main suppliers Varieties EU (Germany, Netherlands, France, Italy) Cuttings EU (Netherlands), Israel Greenhouses

- lumber (plastic imported) - aluminium

EU (Greece, France, Belgium, Netherlands), Israel

Hydroponic and irrigation equipment Substrate

EU (Italy, Netherlands, France, Spain) Israel, India, China Sri Lanka, Israel, India

Spraying equipment EU (Netherlands, Denmark, Germany), US Personal protective equipment Asia (Dutch brand) Cold chamber EU (Netherlands, Germany, France, United Kingdom)

South Africa Trucks Cooling unit

EU (Sweden, Germany) Japan, India Netherlands, Italy

Telecommunication equipment EU (Germany, Sweden) Agrochemicals EU (Netherlands, Belgium, France) Norway, Israel, India, South Africa Packaging material Sleeves Raw material

EU (France, Sweden), South Africa, Egypt EU (Netherlands) Taiwan, China

Medicine EU, India Source: Interviews with various stakeholders.

4.2.3 Trade in Services Although services are developing in Kenya, the ESA horticulture sector relies on

service providers from the EU and Israel. Transportation services comprise the majority of

production costs, and are supplied by EU or Kenyan service providers.

Table 6: Origin of the main services used by horticulture sector

Horticulture sector Country of origin Marketing EU (Netherlands, Germany), Israel Technical consulting EU (Netherlands, France), Israel Legal consulting EU (Netherlands), Kenya Auditing EU (Netherlands), Kenya Laboratory analysis EU, Kenya Recruitment EU, Kenya Air freight EU, Kenya Lobbying EU, Kenya Source: Interviews with various stakeholders.

16

5. Relevant Trade Measures

5.1 Market Access: Tariffs

5.1.1 EU tariffs EU tariffs on roses, green beans and peas differ depending on the country of origin.

(Table 7) Under the Cotonou Agreement (and previously the Lomé Conventions), the EU

offers duty free access to ACP countries for products including flowers and vegetables from

the ESA region.13 This trade preference was the driving force behind the development and

growth of the horticulture sector in ESA countries. The main competitors of the ESA

countries benefit from GSP or GSP + trade preferences.14

Table 7: Tariffs and quotas at the entry of the EU market for roses, green beans and peas, for main EU suppliers, until end of 2007 Roses (HS 06031010) Green beans (HS 070820) Peas (HS070810) ESA countries (Cotonou Agreement) 0% 0% 0% Everything But Arms (for LDCs) 0% 0% 0% GSP 5% May and Oct. : 6.9%

June to Sept : 10.1% Sept. to May 4.5% June to August 10,1%

GSP + Ecuador : 0% Guatemala, Peru : 0% Bilateral trade agreements Egypt January to April : 0%

May : 5% June to Sept. : 8.5%

Nov. to April : 0% quota of 7,680 t +1.6 Euro min/100kg) May to July and Oct. : 6.9%

August and Sept. : 10.1%

Nov. to April : 0% May : 4,5%

June to August : 10.1% Sept. to Oct.. : 4.5%

Morocco Nov. to May : 0% quota of 3,180 t

July to Oct. : 8.5%

Nov. to April : 0% June and Oct. : 6.9%

August and Sept. : 10.1%

Oct. to April : 0% May : 4,5%

June to August : 10.1% Sept. : 4.5%

5.1.2 ESA tariffs In Kenya, the production of horticulture in the ESA region requires the import

inputs which are subject to both VAT and import duties. However, a duty drawback

scheme applies and producers can seek to have these expenses reimbursed. Despite

procedures that have been streamlined and shortened, there are still complaints of delays

in the refund of duty and VAT. In Ethiopia and Zambia imported inputs and equipment

13 Prior to 2000 seasonal quotas were applied on roses exported from the ESA countries. 14 GSP+ is a special incentive arrangement for sustainable development and good governance, established by Regulation (EC) No 980/2005. A limited number of countries are eligible for GSP+. They have to implement some international agreements or conventions related to environment, human rights and labour. A list of coun-tries benefiting from GSP+ was published by the EC on 21 December 2005.

17

imported by horticulture companies are subject to neither import duties nor VAT. This

provides importers with a high degree of certainty with respect to pricing, as well as

relieving the administrative burden of having to apply to have these costs refunded.

5.2 SPS measures European directives focus primarily on SPS measures to ensure a high level of

security for European health and environment (insects or diseases in flowers). EU regulations

for horticulture imports are summarised in Table 8. The principal SPS measures for flowers

cover plant products, documentation requirements and inspections. For green beans and

green peas the measures include traceability.

The EU requirements are stringent and costly to apply. In Kenya, most of the

companies are able to comply with them. In 2005, there were only 13 interceptions of

Kenyan consignments world-wide. This represents huge progress; in 2003 there were 128

interceptions. Most interceptions concern flowers–over 60% of the interceptions between

1999 and 2004. During the same period, vegetables represented about 12% of the

interceptions. (KEPHIS) An analysis of pesticide residues at the EU level in 2000 showed no

particular problems in vegetables coming from sub-Saharan countries in Africa. This was

confirmed in a UK analysis of imported green beans from Kenya in 2002. (Jaffee 2003)

Traceability requirements are not a constraint for large Kenyan exporters of green beans; they

have the capacity to register their production with computers. But small and medium-sized

growers have difficulties complying with these requirements. Their overall effect is to

increase the concentration in the supply chain. (Le Bigot 2004)

Table 8: EU regulations on horticulture products Council Directive 2000/29/EC of 8 May 2000 on protective measures against the introduction into the Community of organisms harmful to plants or plant products and against their spread within the Community.

Organisms harmful to plants or plant products (insects and mites, bacteria, fungi, viruses and parasite plants).

This Directive subjects certain plants and plant products from other countries to a check on entry into EU territory. This involves a documentary check, an identity check and a plant-health check.15

For vegetables and flowers

15 The documentary check consists in checking certificates and documents accompanying the consignment or batch, in particular the plant-health certificate. This is issued, using models drawn up by the Commission, by the authority responsible in the country of origin or re-export, which must have been designated in accordance with the International Plant Protection Convention (IPPC) of the United Nations Food and Agricultural Organisation

18

Regulation 396/2005 of the European Parliament and of the Council of 23 February 2005 on maximum residue levels of pesticides in products of plant and animal origin.

The Regulation establishes the maximum quantities of pesticide residues permitted in products of animal or vegetable origin that are intended for human or animal consumption. The maximum residue levels (MRLs) include, on the one hand, MRLs that are specific to particular foodstuffs that are intended for human or animal consumption and, on the other, a general limit that applies where no specific MRL has been set.

For vegetables (not for flowers)

Commission Directive 2002/63/EC of 11 July 2002 establishing Community methods of sampling for the official control of pesticide residues in and on products of plant and animal origin.

Set the analyzing process. Minimum size of each laboratory sample for peas and beans: 1 kg.

For vegetables (not for flowers)

Regulation 178/2002 of the European Parliament and of the Council of 28 January 2002 on food safety, which establishes traceability for food products.

Traceability is defined as the ability to identify a unique product, and the raw materials used in its production, and to follow the progress of that product right through the production and distribution process.

Operators in the food sector are required to have product withdrawal systems as well as records identifying the source of their raw materials and the businesses they supply.

For vegetables (not for flowers)

The minimum percentage of consigned roses to be checked is defined at the EU level,

depending on the level of past SPS problems. Each EU country is free to inspect a percentage

higher than that indicated in the regulation. For example, France applies a 100% inspection

while Netherlands applies the minimum level. (Sylvie Mamias, Union Fleurs) In Zambia and

Ethiopia, compliance problems have been more important than in Kenya. This has led to the

inspection of 25% of roses from Ethiopia and 10% of roses from Zambia. (Table 9)

Flower producers consider the inspection process costly. It adds uncertainty in the

supply chain potentially delaying the movement across borders of a highly perishable

product. The lack of accredited inspection agencies in the ESA region contributes to this

burden. In Kenya, KEPHIS is not accredited by the EU so inspections occur both prior to

leaving Africa and on entry into the EU, doubling the time and cost associated with the

process.16

Table 9: Reduced plant health checks for roses Country Percentage of roses to be checked Ethiopia 25%

(FAO). It has to certify that the products have undergone appropriate inspections and have proved satisfactory and meet the plant-health conditions for import. 16 Moreover, despite their success in complying with SPS measures, several companies interviewed there of the view that some EU requirements (specifically MLRs for vegetables) are not always scientific and are difficult to comply with.

19

Kenya 5% Uganda 5% Zambia 10% Zimbabwe 5% Source : Commission Regulation (EC 1756/2004).

5.3 Foreign Direct Investment In Kenya, Zambia and Ethiopia there are no restrictions on FDI in the horticulture

industry. The process for obtaining an export licence is the same for both national and

foreign-owned companies. (Interviews with stakeholders)

The horticulture industry requires a high level of investment. A Zambian vegetable

farm of 8 ha has a fixed capital requirement of €20,000 and a Kenyan farm of 8 ha of

greenhouses requires € 3 million. To develop horticulture in other countries in the region,

such as Ethiopia, foreign investment is required because regional resources are limited. In the

short and medium terms, this situation is likely to continue. Adapting a farm to EU

requirements can cost between €50,000 and €500,000. (Jaffee 2003) Even small-scale

farmers need investment for irrigation if they want to export. In Kenya, the EC Delegation

offers loans from the European Investment Bank to small and medium-sized farms at interest

rates similar to European rates (3-4% vs. 12-15%). In Zambia, smallholders have access to

similar programs but are not using them because of the contraction of exports.

5.4 Trade facilitation Trade facilitation is particularly important for horticulture trade given the highly-

perishable nature of both cut-flowers and fresh vegetables. In Kenya, exporters need a Euro1

Certificate to export. This certificate is provided by the Kenyan Government, but is only

valid for two days. Most of the exporters complain that the Kenyan Customs Authority adds

unnecessary administrative steps which are time consuming. On the other hand, the

Government of Ethiopia has reduced administrative steps to facilitate exports.

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5.5 Related Services: Transport/Financial Services Transport, particularly air freight, is a major cost for vegetables and cut flowers

exports. The largest growers have their own cargo capacity while the smaller producers use

the services of shipping agents to transport their produce.

Access to affordable credit is perceived to be a constraint in some countries. Further

services liberalisation could theoretically bring about increased competition in the financial

services sector and reduce the cost of credit in Zambia and Kenya. Liberalisation could

improve access to affordable credit by national companies, which would reduce the

competitiveness gap between Kenyan and Ethiopian investors. Many large companies in

Kenya and Zambia complain that European companies have access to cheaper credit and can

invest more easily. In Ethiopia, cheap loans provided by the Ethiopian Development Bank

permit national investors to develop companies and there is no need for cheaper credit.17

To enhance their competitiveness in the EU market, ESA exporters often use EU

consulting services (for legal and marketing issues for example). In Kenya, imported services

are subject to a tax of 20% and increase costs for Kenyan exporters.

5.6 Codes of Conduct In some cases, the requirements of buyers (governed by private codes of conduct and

labels) are more stringent than public regulations. An additional complication for exporters of

horticulture products is obtaining certification under the many private schemes of standards

and labels that exist, both in the ESA region and in the EU. Private standards impose

additional requirements and added cost. There are codes of practice for flowers and

vegetables at both the national level and the international level. At the national level in the

ESA region, Kenya, Zambia, Uganda and Zimbabwe all have codes of practice, based on

international codes. (Table 10) The main national codes, such as KFC and ZEGA, are

benchmarked against EurepGAP, which avoids additional audits. Nevertheless, exporters are

often led to seek other certifications, such as FLP or Max Havelaar, to access lucrative niche

markets. Along with meeting the requirements specified in each, there are additional

21

administrative and financial burdens associated with separate verification processes where

there is no mutual recognition of labels.

Despite the burden associated with compliance, certification under one or more of the

national and international codes of practice is a necessary step to allow ESA producers access

to the most lucrative markets. For example, EurepGAP certification is a prerequisite for

selling to supermarket chains in the UK and elsewhere. It is a vital distribution source for

both flowers and vegetables from the ESA region, offering stability in terms of both price and

volume. Without direct access to supermarkets, producers sell to wholesalers at discounted

prices. The country of origin is required to be displayed on vegetables sold in the EU and so

it is important for countries to maintain a good reputation in the eyes of EU consumers.

17 In Ethiopia companies can borrow money at 6.5% (interview with head of office for foreign trade), while Kenyan and Zambian companies can borrow at 12-15% on national financial markets (interviews with Kenyan and Zambian companies).

22

6. Summary of the Methodology

6.1 Scenarios This study focuses on the potential economic, social and environmental impacts of a

prospective EPA on the horticulture sector in the ESA region using a baseline and an EPA

scenario, presented in Tables 11 and 12, respectively. Table 11 covers the scenarios for

horticultural products exported from the ESA region to the EU. Table 12 addresses exports

from the EU to the ESA region relevant for the horticulture sector such as inputs and

equipment that are exported from the EU.

Table 11: Baseline and EPA Scenarios: Exports from ESA to the EU

Baseline (LDC : 0% ; Non-LDC :GSP)

Floriculture LDC Non-LDC

EPA Scenario (All ESA : 0%)

No tariffs or quotas (Cotonou and EBA). This situation would continue with or without an EPA.

No tariffs or quotas (Cotonou). This will revert to GSP tariffs in 2008: 5%

No tariffs or quotas for all ESA to be negotiated in an EPA.

Baseline (LDC : 0% ; Non-LDC :GSP)

Fresh Vegetables

LDC Non-LDC

EPA Scenario (All ESA : 0%)

No tariffs or quotas (Cotonou and EBA). The situation would continue with or without an EPA.

No tariffs or quotas (Cotonou). This would revert to GSP tariffs in 2008. Green beans: 6.9% Peas: 4.5 %.

No tariffs or quotas for all ESA to be negotiated in an EPA.

24

Table 12: Baseline and EPA Scenarios: Exports from the EU to ESA

Products related to horticulture

Baseline Scenario EPA Scenario

Green houses, fertigation and irrigation technology, pesticides, fertilisers, cold chain infrastructures

Current levels of tariffs 80% of the tariff lines will gradually be liberalised (hypothesis of the scenario) This scenario will have two different levels : Agreement on SPS, TBT (certification and inspection), trade facilitation, investment, financial and transportation services Agreement on SPS, TBT (certification and inspection)

The scenarios are analysed using a combination of qualitative and quantitative

techniques. The main element of the qualitative approach was interviews combined with desk

research. Quantitatively, the study examines the impacts for selected green beans, peas and

roses, of a baseline scenario that implies a reversion to GSP duties for non-LDCs. It uses a

method that examines indicators of competitiveness and comparative advantage. It takes into

account any duties and special duties charged on current and likely future exports under the

EU’s standard GSP scheme for the selected products.18

The resilience of the sector is assessed through the examination of the cost structure

in the industry in different countries in the region vis-à-vis each other and their competitors in

the rest of the world, using a model that focuses on the critical input costs and other

indicators of competitiveness and comparative advantage. The method also predicts the

impact of various policy interventions, such as export incentives, as well as duty draw-back

regimes and the regulation of quality control measures.

The data requirements for this approach are significant and had to be collected at the

economy-wide and industry levels. Data were obtained in the region from selected producers,

on the basis of a questionnaire (Annex 2). The potential economic consequences of the

baseline scenario allowed the team to determine the pressure on the production, and on social

and environmental impacts—particularly rural development, poverty alleviation,

employment, and impacts on small growers.

18 The GSP+ is an incentive arrangement offered by the EU to promote sustainable development and good governance. To benefit from GSP+, beneifciary developing countries have to ratify and implement some international conven-tions, such as ILO conventions, MEAs, for instance (Council regulation EC 980/2005). The list of beneficiary coun-tris was published in December 2005 (Commission decision 2005/924 (CE). Under the GSP+ regime, those coun-

25

6.2 Quantitative analysis The evaluation of competitiveness of the horticultural sector in Kenya and Zambia is

based on the computation and decomposition of two unit cost indicators: one, that measures

export competitiveness and, one, that reflects comparative advantage. This method was

developed and applied in earlier case studies of manufacturing industries in Mali (Cockburn

et al., 1998), Kenya (Siggel, Ikiara, Nganda, 2002), Uganda (Siggel, Ssemogerere, 2004) and

India. (Siggel, 2000) A summary of the methodology is found in Annex3.

The method of analysis assumes that in the context of horticultural production for

exports, cost competitiveness is the dominant factor. Other aspects, such as technological

advantage play a role, but are essentially reflected by the profitability of the producers, or

their unit cost-price ratios. The quality of flowers, as well as the methods of growing,

harvesting and transport to markets are subject to innovations, some of which are of a

proprietary nature. It is assumed, however, that the desired access to these technologies

(including seed and stem varieties) is possible and reflected by costs in the form of royalties.

This study computes first the unit cost ratios of representative producers in both

countries under two scenarios, the baseline and the EPA scenarios. The unit cost ratio used

divides the total cost of production by the value of output at domestic prices, where the total

cost of production includes the opportunity cost of using own capital. This ratio (which is

abbreviated UCd) is a measure of profitability. When it exceeds unity, this indicates that the

producer (or industry) incurs total costs that exceed the value of output. This implies that the

rate of return is lower than the market rate of interest, which is used in the computation of the

opportunity cost of own capital (equal to total capital stock minus outstanding loans).

Since in this study all firms produce entirely for the export market, there is no

difference between domestic competitiveness (i.e., profitability in the potentially protected

domestic market measured by UCd) and export competitiveness (measured by UCx), where

the value of output is based on international prices (fob). Export competitiveness (UCx < 1)

is therefore understood as profitability in export markets, implying that unit costs are inferior

to the export price.

tries have free access to the EU market, for most of their products. This level of preference is enjoyed by Kenya’s major competitor, Ecuador.

26

The second indicator used in the study is the unit cost ratio (UCs), which is based on

shadow prices (i.e. after elimination of all price and cost distortions). When UCs is inferior to

1, this indicates that a producer (or an industry) has a comparative cost advantage. It is well

known in economic theory that comparative advantage implies economic optimality, which

may differ from profit-maximising optimum for individual firms. The difference between

UCs and UCx is accounted for by a number of price and cost distortions, such as currency

misalignment, interest rate distortion, duty margins on traded inputs, wage distortions such as

the minimum wage, and subsidies.

The baseline scenario reflects the costs of production under the assumption that no

EPA is negotiated. Since Kenya is presently benefiting from free access to the EU market,

that means that its baseline scenario costs are simulated, based on the reported ones, but with

a lower output price. For Zambia, on the other hand, the base scenario means free access to

the EU market, since Zambia is a LDC, so it corresponds to the reported situation.

6.2.1 Data sources, coverage and assumptions Revenue and cost data were obtained from the producers, by way of a questionnaire.

Other data sources include the International Financial Statistics of the International Monetary

Fund for macro variables such as exchange rate, interest rate and price indices.

The coverage of the horticultural sectors in Kenya and Zambia is limited. This is due

to the nature and organization of the study (in terms of the shortness of the field trip taken by

team members) and due to the incomplete responses of several producers to the

questionnaire. Some variables used in the study are based on assumptions, in particular the

shadow prices of foreign exchange, capital and unskilled labour. These assumptions are

considered in the sections that follow.

6.2.2 Exchange rates and currency misalignment Exchange rates used for conversion of local into foreign currencies were the market

rates at the end of 2005. The shadow exchange rates needed for the measurement of

comparative advantage were computed based on the theory of purchasing power parity

(PPP). This means that the real exchange rate was computed using the consumer price

indices of Kenya, Zambia and the United States, in addition to nominal exchange rates. The

real exchange rate, as computed in Annex 4, shows whether a currency has appreciated or

27

depreciated in real terms during a specified time period. In the present context we have gone

back to 1992 and found that the Kenyan shilling appreciated by about 18% between 1992 and

2000, with some fluctuations, and by 35% between 2000 and 2005. In a former industry

study we had estimated that the shilling was overvalued by 10% in 1997 (cf. Siggel, Ikiara,

Nganda, 2002). Based on this information and the real appreciation of 27% between 1997

and 2005, we conclude that the shilling was overvalued by about 40% at the end of 2005.

This is the highest degree of misalignment experienced by the Kenyan currency in about

twenty years and it has serious repercussions for production and exports of horticultural

products.

The currency overvaluation is even more dramatic in Zambia, where the real

exchange rate appreciated by 257% since the year 2000. Before 2000 and since 1992 the

Zambian kwacha had appreciated by 59% in real terms. Assuming that the kwacha was

roughly well-aligned in 1999, we find that by the end of the year 2000 it was overvalued by

about 100%.

6.2.3 Interest rates and the shadow price of capital The unit cost ratio (UCx), which is computed as indicator of international

competitiveness includes in the total cost of production the opportunity cost of own capital.

While the cost of borrowed capital is entered as the actual interest payments, the opportunity

cost of own capital is taken to equal the own capital stock times the market interest rate,

where own capital stock is total capital stock minus outstanding loans and the market interest

rate is taken to equal the deposit rate as reported by the International Financial Statistics of

the International Monetary Fund. In the year 2005 the deposit rate was 5.1% for Kenya and

11.2% for Zambia. While the deposit rate is used only for the computation of opportunity

costs of own capital use, the lending rate needs to be considered as the cost of borrowing for

investments. In Kenya the lending rate was 12.9% in 2005 and in Zambia it was 28.5%. In

Kenya it had been as high as 30% in the mid-1990s and in Zambia about 50%. In spite of this

decline, reflecting some degree of financial liberalization, the rates are still high. However,

considering that Kenya’s inflation ran at 10.3% in 2005, and Zambia’s inflation at 18%,

credit is no longer very expensive in Kenya, while it is still very expensive in Zambia. In

addition, access to credit is not always easy, especially for smaller producers.

28

The shadow price of capital, which enters into the computation of unit costs at

equilibrium prices (comparative advantage), is the social opportunity cost of using capital.

Given the high mobility of capital and the fact that some of the enterprises are foreign-

owned, it is assumed here that foreign capital sources are accessible and that the international

price of capital can be used as a base estimate. The shadow price of capital is therefore taken

as the LIBOR plus a country-specific inflation differential. For Kenya it is computed as

10.0% and for Zambia as 18.9%. It follows that in Kenya the interest rate distortion was in

the order of 5% and in Zambia of 7.7%, both negative.

6.2.4 Wages and the shadow price of labour For skilled labour it is assumed here that the going wage rate corresponds to the

equilibrium rate. In other words, it is assumed that there is no substantial amount of labour

surplus in the market of skilled workers in both countries. For unskilled workers, on the other

hand, where unemployment is high in both countries, the going wage rate overstates the

equilibrium rate. The shadow wage rate, which essentially should reflect labour market

equilibrium, is estimated here in a simplified way. For Kenya, this rate had been estimated in

an earlier study (Siggel, Ikiara, Nganda, 2002) as 80% of the going wage in 1997. The same

rate has been adopted in the present study. For Zambia, where unemployment is substantially

higher19, the shadow wage rate is taken to equal 60% of the going wage.

6.2.5 Other price and cost distortions The main price distortion of the output value is for industrial products the nominal

rate of protection. Since the producers of horticultural products sell directly or indirectly on

the international market it is assumed that their output value is based on world prices, which

are usually taken as equilibrium prices. The only distortion which they are subject to comes

from exchange rate misalignment. As seen earlier this distortion has been estimated to be in

the order of 40% and 100% for Kenya and Zambia, respectively. This means the Zambian

growers would be able to obtain twice as many kwachas for their output if the exchange rate

was well aligned.

19 USAID estimates range from 25% in Kenya to 70% in Zambia, www makingcitieswork.org/files/pdf/africa/Kenya or Zambia, respectively.

29

For tradable inputs, which are for the most part of industrial origin, existing import

duties are taken as a cost distortion, which, however, has the opposite sign to that of the

exchange rate misalignment. While exchange rate overvaluation makes traded inputs

artificially cheap, import duties increase their costs. To the extent that exporters of

horticultural products are exempt of import duties, their tradable input cost is considered

undistorted by the trade regime, except for the negative cost distortion from the currency

misalignment.

Further distortions have been reported through the questionnaire survey and they

concern non-tradable inputs. These are, however, of a different nature and their treatment is

more unorthodox. Since, by definition, non-traded goods and services, do not have

international prices for comparison, it is often assumed that their domestic prices are

undistorted. It is possible, however, that services such as domestic transport, communication

and utilities are abnormally expensive or inexpensive, due to government policy. Subsidies

for use of electricity, for instance, would be treated here as a cost-lowering (negative) input

cost distortion. If electricity rates are abnormally high, the distortion can be positive. Another

form of cost distortion exists, when the electricity supply is often interrupted, which leads to

extra costs to the producers. This is known to exist in Kenya and leads to extra costs through

work stoppage and extra investments in private generators to prevent work stoppage. In the

same sense, the cost of local transport and communication can be distorted upwards if the

transport infrastructure is abnormally deteriorated. Telephone lines in Kenya are often non-

functioning and the users pay for many lines in order to have at least one operational, in

addition to cell phones. One of the Zambian producers reported cost distortions of 15% for

airfreight, 20% for fuel, 40% for electricity. Although some of these distortions may be

important obstacles to smooth day-to-day operation, they have only a marginal impact on

unit costs, when factored in.

The unit cost analysis was undertaken based on cost and revenue data obtained from

three producers in Kenya and two producers in Zambia. Data was aggregated into a single

sector dossier for each country. Due to the small size of the sample and the nature of

information obtained, it is not possible to distinguish between the flowers and vegetables in

the analysis. In Kenya the proportion of flowers to vegetables in the reporting firms is 65%

for roses and 35% for beans and peas. In Zambia the reporting firms produce only vegetables.

30

Ethiopian producers did not respond to the questionnaire and so no quantitative analysis was

performed for that country.

31

7. Case Study One: Non-LDCs (Kenya)

7.1 Introduction Kenya has the oldest horticulture sector of the region. During the 1930s, companies

launched exports of vegetables (tomatoes and carrots) to the United Kingdom (UK). In the

1960s the development of air freight allowed Kenya to export new products including green

beans and flowers. Kenyan flower exports began in the 1970s (with dianthus), taking

advantage of the favourable climate and low labour costs. In the 1980s production shifted to

roses. In 1995, Kenya supplied 4.3% of the flowers entering Europe; ten years later the

country had moved past Israel and Colombia to become the leading exporter of cut flowers

into the EU, with 25% market share. (Fenton, 2005) Kenyan horticultural exports are now the

primary source of foreign currency (almost 20% of the total exports). (Kenya Export

Promotion Council)

The small-headed rose is the most widespread flower produced in Kenya, and is sold

mainly to supermarkets in the EU or through the Dutch Auctions. Some companies grow

large-headed roses (higher quality and value) which are sold to wholesalers or florists. Green

beans and peas are high-quality products, often pre-packed, and sold to supermarkets or

wholesalers in the EU.

The export of fresh produce is concentrated in a few companies. At the end of the

1990s, the five top exporters of fresh vegetables controlled 75% of exports (Dolan,

Humphrey, 2001) Rose production is undertaken by companies employing salaried workers,

while the production of beans and peas occur both in companies with salaried workers as

well as through smallholders who sell their production to larger companies. Horticulture

exports provide direct employment for 100,000 workers and 100,000 smallholders and

indirect livelihoods for around one million people (including related services and family

workers). (Kenya Flower Council and Fresh Produce Export Association of Kenya)

Labour costs are around US$ 2 per day per worker. (Interviews with Kenyan

exporters) The relatively low cost structure means that horticulture is highly profitable, with a

32

potential return on investment within two years (if undertaken efficiently). (Fenton, 2005)

Increasing costs of airfreight (due to high oil prices) and a 40% over-valuation of the Kenya

shilling have reduced profitability in recent years.

During the 1990s, consumers in the UK market in particular became more aware of

social and environmental consequences of horticulture in Africa. Kenyan growers responded

by developing standards and private labels covering social and environmental practices that

are now widely implemented throughout the industry. Two organisations in Kenya represent

horticulture growers and exporters: the Fresh Produce Exporters Association of Kenya

(fruits, vegetables and flowers) created in 1975 and the Kenya Flower Council (KFC)

(flowers) created in 1996.

For flowers, the most important private standards are contained in the KFC Code of

Practice. At present, between 60% and 70% of Kenyan roses comply with this Code. Because

a significant proportion of Kenyan roses are sold in supermarkets in the EU, several exporters

have sought and received certification by EurepGAP.20 (Interviews with Kenyan exporters)

Because almost 75% of the roses produced are sold to the Dutch Auctions, several producers

are also certified by the Milieu Programma Sierteelt (MPS), a label launched by the Dutch

Auctions specifying certain environmental and social standards. The same is true for green

beans, which tend to be sold directly to supermarkets in the EU. FPEAK implements Kenya

GAP which is EUREPGAP benchmarked. In 2006, a Kenya based company, Africert, is now

able to deliver EUREPGAP certification. This will reduce the costs of certification to

growers.

7.2 Summary of the Baseline Situation Preferential market access to the EU is the most important trade measure for Kenya,

given that it is not a LDC and cannot benefit from the Everything But Arms (EBA) Initiative.

Its main competitors for horticulture products (Ecuador for roses, Morocco and Egypt for

vegetables) have access to the EU that is more preferential than the GSP.

SPS measures are also important for Kenyan exports. The Kenya Plant Health

Inspectorate Service (KEPHIS) has been accredited by the EU for vegetable inspections. This

33

will avoid double inspections and thus decrease costs. Similar accreditation could be

negotiated for roses. FDI is also an issue for Kenyan horticulture, because this sector relies on

FDI. Trade facilitation can also be improved (Euro1 certificate). Some imported services are

also relevant. International transportation is a key component of the costs of Kenyan

products, as are legal costs and marketing campaigns aimed at reaching the EU market or

protecting the interests of growers.

Regional integration is relevant because trade flows could increase with regionally

consumed vegetables or fruits and second quality vegetable exports and benefit transportation

infrastructure.

7.2.1 Economic Impacts If there is no EPA, Kenyan producers will face GSP conditions for its exports to the

EU after 1 January 2008. In this case it is assumed that the import duty would lower their

export price and revenue by an average of 6%.21 Since Kenya is currently benefiting from

duty-free access to the EU market, all revenue and cost data received from producers are

based on the existing market access regime. A simulation of the cost structure model to

generate unit cost ratios under the baseline scenario leads to the results shown in Table 13.

Table 13: Average unit cost ratios (Kenya)

Scenario Kenya

Baseline UCx =1.061

UCs = 0.842

EPA UCx = 0.997

UCs = 0.791

Kenyan producers are, at present, marginally profitable. With no EPA to maintain

their duty-free access they would lose profitability due to a reduction in the export price of

6%, as they would face an average tariff of that magnitude. If the exchange rate remains

unchanged, costs of production would exceed the export revenue by approximately 6.1%,

20 EurepGAP certification is required by many European supermarkets. It includes Good Agricultural Practices and an optional social label. 21 This rate is a weighted average of European tariff on flowers and beans and peas, where the proportions of 65% and 35% for flowers and vegetables, respectively, are taken as weights.

34

which corresponds to a negative rate of return to capital of 1.2%. The industry would

maintain a comparative advantage (UCs) at a rate of 0.842.

Therefore, although the horticultural sector would be profitable from a socio-

economic perspective, due to various price and cost distortions it would not be competitive

internationally. The main distortion (which diminishes competitiveness) is the overvaluation

of the Kenyan shilling. Its net effect on unit costs is in the order of 25%, given that it lowers

the revenue and traded inputs in terms of local currency, where the revenue effect is stronger

than the impact on tradable inputs. Other cost distortions (such as the remaining difference

between UCx and UCs) have a relatively minor effect on unit costs, such as the wages of

unskilled labour (2%) and capital goods inputs (2%) and other tradable inputs, for which the

producers are assumed to be exempted. The cost of credit has, in the past, been a problem for

Kenyan producers, but at the present interest rate level of 12.9% it does not produce a cost-

increasing distortion. This follows from consideration of the present (2005) rate of inflation

of 10.3%, which implies a real interest rate of only 2.6%. Other factors, such as excessive

cost of local transport, communications and utilities, although often mentioned in

discussions, only have a marginal impact on unit costs.

To cope with loss of profitability, firms might adopt different strategies. These could

include relocating production, reducing production costs, increasing production to take

advantage of economies of scale, repositioning production towards more lucrative products

and/or launching “brand” marketing based on high environmental and social standards.

Relocating Production. Declining profits margins and competitiveness could lead to the

relocation of firms to LDCs (such as Ethiopia) where tariff preferences with the EU have been

maintained (under the EBA) or where production and transportation costs are lower and where there is

an emerging industry and a workforce with relevant skills.22 With no EPA, investment and production

is most likely to develop in LDCs, starting with those countries where production already exists and

which offer a favourable climate to investors, such as Uganda and Ethiopia. In the short-term at least,

the unfavourable exchange rate in Zambia makes it a less attractive destination for export-oriented

investment.

Cost savings. For roses, opportunities for cost savings are limited in Kenya and the

most apparent means would have a negative impact on wages and/or working conditions.

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Total remuneration, including benefits in kind, represents between 15% and 25% of the sale

price of horticulture products (results of quantitative analysis). A way of saving cost could be

to decrease the number of workers, wages, working conditions and social advantages (such

as schools and medical clinics).

Firms could reduce input costs by relying on Integrated Pest Management (which

would also have positive environmental impacts), but this would require the acquisition and

training on the technology (which is widely available in Kenya). For large growers, costs

savings can be achieved by sourcing more vegetables from small growers, who have lower

costs (employing family labour). This would result in job losses in the larger companies or a

reduction in wages and working conditions. Nevertheless this response is limited. First, it

requires training and technical supervised of small holders to reach public and private

standards.23 Moreover, many African exporters consider it necessary to produce directly, in

order to secure contracts with supermarkets in the EU.24 Furthermore if a company has its

own production it tends to become more technically competent and is in a better position to

innovate.

For both flowers and vegetables, improvements in infrastructure could help firms

reduce costs. The baseline analysis showed that poor infrastructure increases costs of

production. Public investment in telecommunication, roads, cold storage at the airport, and

electricity would reduce costs for producers (and would have positive spin-off effects for

other sectors such as tourism and other export-oriented sectors). In the short-term, revenues

to the Kenyan government will not be reduced by liberalisation although the potential for

increasing this revenue in the medium and longer-terms depends on continued strong levels

of trade.

Increasing production. Kenya could increase levels of production to take advantage

of economies of scale. However, in the context of declining profitability, this may not be

possible for the vast majority of producers as the production of roses requires high level of

22 The special case of competitiveness of Kenyan green beans vis à vis Moroccan will be assessed in the quanti-tative analysis. 23 Properly trained, smallholders can comply with private standards such as EurepGAP. But training will represent a new cost for growers. For example a large company in Kenya has vertically integrated 1,000 smallholders in vegetables production and employs 79 technicians to provide technical assistance.

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investment in greenhouses, inputs, and irrigation equipment. In the vegetable sub-sector large

growers can increase production with minimal investment or through increasing reliance on

smallholders. Additional investment would be limited to increasing capacity for cold storage

and transportation, or may be avoided altogether where existing capacity is under-utilised.

Nevertheless as in the cost savings response, there will be costs associated with training

smallholders.

Develop higher value products and build new markets. Kenya has long-standing

experience in the horticulture sector and producers are well-positioned to modify and/or

diversify their production towards higher value-added products, which rely on skill, rather

than investment. These products include mixed bouquets of flowers, new varieties of roses,

canned beans, or ready-to-eat vegetables. Demand in the EU for these types of products is

increasing. However, Kenyan producers would still have to compete with producers in

countries such as Ecuador, Morocco or Egypt who are equally skilled, and have market

access that is better than that provided by the GSP.

Another strategy is to look for new markets. Kenyan rose growers are in the process

of exploring opportunities in US supermarkets for small-headed roses. Russia and the

prospective Dubai Flower Auction are also potential new markets. Moreover, FPEAK is

trying to develop new markets for Kenyan vegetables in the United States.

Codes of Conduct. There may be opportunities for Kenyan growers to position them-

selves as “environmentally and socially friendly” producers. Certification is not yet as well

developed in major competitors in South America (or emerging LDC producers) while Ken-

yan growers find that codes are a good management tool and have considerable experience

with the KFC Code. At present, with the exception of Max Havelaar, labels indicating quality

are not visible to EU consumers for flowers, while the country of origin is indicated for vege-

tables. This strategy would, therefore, involve improvements in both marketing and labelling.

However, there is a risk that it will interrupt the regional cooperation on standards coordi-

nated by the KFC, and that could weaken sustainable development in this region in the long

run. Moreover, the relatively slow development of Max Havelaar products in the EU shows

24 If companies do not produce, at least partly by themselves, competitors can buy all the production of the sup-pliers at a better price (sometimes with financial assistance of the supermarket which will obtain a better price in the end) and the first company can lose its contract.

37

that there are still few consumers willing to pay a price premium for more sustainable prod-

ucts, although consumers in countries such as the United Kingdom, Netherlands and Ger-

many are at the forefront, and these are the major markets for Kenyan products.

It is difficult to estimate which of these five possible responses firms will adopt, or

how they will be adopted in a mix. However, it is clear that small and medium-sized compa-

nies will have more difficulties than larger ones, although there may be benefits for small-

holders. It is also likely that concentration in the horticulture sector will increase.

7.2.2 Social Impacts At present, horticulture production has a positive social impact in Kenya in terms of

employment and the implementation of social standards such as those in the KFC Code of

Practice and the Horticultural Ethical Business Initiative. Income from both salaried

employment and for smallholders has had a positive impact on poverty alleviation and

provides better opportunities than exist in other sectors. In Kenya, the minimum wage in the

sector is Ksh 4200 (the national minimum wage is Ksh 3500), plus Ksh 1100 for housing, if

necessary. According to workers interviewed at one farm in Kenya, a house can be rented for

between Ksh 500 and Ksh 1000 and a family of four people can be fed with Ksh 400. It is

unlikely that unemployed workers would find comparable work easily. Moreover, women

benefit disproportionately from this sector as 60% of the workers are women.

Smallholders are also importantly impacted by horticulture, and particularly

vegetable production. In Kenya, the UN’s Food and Agricultural Organisation (FAO) affirms

that the poverty rate among small farmers involved in growing horticulture products for

export is lower than for other small farmers.25 Furthermore food insecurity is reduced by

25% if the small farmers can grow vegetables (or fruit) for export.

Evidently some problems remain. Sexual harassment is often referred to as a problem

in Kenyan horticulture, although it does not appear to be worse than in other sectors that

employ a high proportion of women. Kenyan Codes of Conduct are addressing this issue. A

second problem from a social perspective is the use of agrochemicals and its consequences

on workers’ health. Here again Kenyan horticulture is moving in the right direction, through

its Codes of Conduct and use of IPM.

25 FAO, 2004, L’état de l’insécurité alimentaire dans le monde, pp. 22-23.

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Loss of competitiveness in case of no EPA can be addressed through the dynamics

identified in the sub-section above. Each will have different social impacts depending how

firms respond. The relocation of firms would be the worst impact for Kenya from a social

perspective because of the negative impacts on employment, and few alternatives.

Smallholders would lose their extra profit provided by vegetable production and their

standards of living would decline. With respect to cost savings, any moves towards IPM

would have positive impacts for human health. However, impacts will be negative if cost

savings are achieved through decreasing wages and working conditions. Outsourcing

production from smallholders would improve incomes for these growers, and would at